I've seen a lot of people, not only here but in the financial press, showcase their ignorance of extremely important, if arcane, issues relating to finance, the Fed and monetary policy, and it infuriates me. Therefore, I'm going to keep a running list of misconceptions. Feel free to add any or ask any questions that you might have.

Misconception #1: The Fed is an arm of the government.

(A variation of this misconception is "a cartel of Jewish bankers," but there's probably some truth to that.)

Ben Bernanke himself called the Fed a government agency, but to be fair to him--since I trust that Ben knows better--he was probably tried to demarcate it from a typical, ordinary depository institution that holds your savings accounts. This is a true statement, and it's true that it derives its power from Congress under the Federal Reserve Act of 1913, has the power to create an offsetting liability in the form of the monetary base (but not the money supply, which we'll get to), is statutorily mandated to keep prices stable and unemployment at its natural rate, and remits all of its operating profits to the Treasury. However, the Fed is itself neither a completely private institution or an arm of the government. A phrase I often like to use--and that I believe Paul Krugman and Robin Wells used in their text, which happens to the first Macro text I ever used--is "quasi agency."

Misconception #2: The Fed "monetizes the debt."

This one is particularly poignant among Ron Paul people. The problem is, there are a reason that his fan base is mostly college students, most of whom are stuck up, ignorant prcks who like to think they know more about the world than they actually do--and I know this because I was once one of them.

This just isn't true. It makes for a good applause line, but it fundamentally misunderstands how the Fed works.

Here's what monetizing the debt would look like: Tomorrow, Janet Yellen and Jack Lew get together. Jack says to Janet, "Hey, we're going to default on our debt if those damned Republicans don't lift the ceiling by the end of this month. Can you lend us some money?"

In other words, there would be a coordinated effort by which the Treasury would issue bonds and the Fed would purchase them.

Here's the problem: (a) The Treasury can't issue debt until it's approved by Congress even if the appropriations to which that money would be allocated has passed (and though I wanted to point out this very important issue that few people know, it's not at the heart of the matter) and (b) the Fed cannot purchase bonds directly from the U.S. government: it is legally prohibited from doing so. It has to go out and purchase those bonds on the secondary market. The Fed is an independent institution that cannot coordinate its policy actions with the Treasury or with members of Congress. Janet has been exceedingly clear on this, and yet dipsh1t Republicans assert that merely meeting with Jack Lew--which she has to do, by the way--or talking about income inequality make her a partisan hack.

I could go further, since Greenspan advocated a whole lot of deregulation and regularly opined on issues outside of his purview. To be fair, Bernanke did too when he called for reasonably short-term stimulus measures, which was nothing more than admission of incompetence.

But, no, talking about important issues, like income inequality, doesn't make someone partisan: it makes them a serious person, and it's a bit hard to avoid talking about it when (a) it's probably one the most deep-seated structural problems the U.S. economy faces today and (b) members of Congress, thoroughly ignorant of monetary policy, resort to questions asking her to endorse their political agenda for the cute appeal to authority that provides: she gets asked questions not only about income inequality, but about racial inequality, the minimum wage, taxes, etc.

(Paul Ryan recently asserted that monetary policy has resulted in "higher taxes." That's not even possible due to the clear demarcation between fiscal and monetary policy--i.e., Mr. Ryan must have slept through Macro 101 and tanked his first exam--but it's too stupid for me to even count as a "misconception.")

Misconception #3: The Fed is exacerbating income inequality.

This one is especially vicious. Ben Bernanke wrote a very thorough blog post on this, but I'm too lazy to dig it up.

Over long periods of time, money is neutral. That means that the Fed has no ability to impact real variables, such as real wages or the labor share of income, because prices and wages are no longer sticky--i.e., the liquidity effect disappears. So even if monetary policy can have distributional effects, they're temporary.

There are a few ways that monetary policy can impact the distribution of income in the short run. There are also several reasons these are irrelevant, which I will explain in bold:

(a) Raises stock prices

It is true that stocks are usually held by more affluent people. However, via any discounted cash flow model, stock prices rise--and returns fall, which few people actually will tell you--when interest rates fall. However, interest rates aren't low because of the Fed; they're low because of the state of the economy. Easier monetary policy wouldn't have the effect of raising stock prices over any meaningful period of time because it would lead to a higher path of future nominal interest rates. That's because the Wicksellian natural rate, which is effectively a benchmark or guide post for the real federal funds rate, is heavily endogenous. But because money is neutral, the Fed cannot permanently move stock prices, and in the absence of shocks, stocks will grow in line with fundamentals.

Ironically, there's actually a concerted effort among rich people to promote *tighter* money because higher inflation erodes away the value of their money. That's why the Kochs are funding gold-bug organizations that don't know what they're talking about.

(b) Raises home prices

Few people will tell you this: they're far more focused on stocks! As a percentage of their overall balance sheets, homes are much more considerable for lower- and middle-income households than for rich people. By raising home prices--and by pursuing maximum employment, which will lead to stronger underlying fundamentals--the Fed is actually leaning against the increase in inequality that would have resulted in its absence if home prices were to fall precipitously.

Now, you could say that allowing 07-09 to happen, which did exacerbate inequality--particularly as home prices plummeted--was partially the Fed's fault. If you're attributing that to "easy money," you're wrong--and don't understand (a) what easy money is and (b) the difference between easy money and easy credit, the latter of which the Fed has almost no control over and was largely the cause of 07. If you're attributing it to overly tight policy, I would agree--though surprisingly none of the Fed critiques screaming that it increases inequality that I know of want easier money.

(c) Reduces unemployment.

This one is the most straightforward: lower and middle-income people have fewer assets, and are thus more susceptible to adverse shocks to their income than rich people. They're disproportionately hurt by recessions, especially if they're unemployed for long enough that their skills deteriorate. Expansionary policy, therefore, is a boon to them.

Now, you could say that overly tight monetary policy led to hysteresis and *that* was particularly harmful to lower-skill workers. I agree, but again the problem was OVERLY TIGHT monetary policy. Find me a critic who argued as much. You won't find one.

d) QE is bank welfare! The Fed bailed out the banks, and now it pays them interest on their reserve balances they hold onto as opposed to loaning out!

This is so fcking stupid that it makes me cringe. In fact, I think I'm going to dedicate this entire 8000-character post to ripping this the fck apart because even Bernie Sanders has caught onto this sh1t, and it's infuriating.

Let's break this down one by one.

It's true that the Fed bailed out the banks. Here's why you're full of sh1t if you make this argument:

(1) It generated an immense amount of profits for the federal government through loaning out the banks because it remits all of its operating profits to the Treasury.

(2) That's the job of a central bank: to act as a lender of last resort when credit markets freeze up. In the case that they remain frozen and we do absolutely nothing, everyone--especially mortgage holders, people with fewer assets, the smallest and most vulnerable businesses, etc.--would be knocked out.

And, no, Elizabeth Warren, lending at the discount window rate--for which there's a stigma, btw, in which case DISCLOSING the institutions who visit it as those Congressional morons did in Dodd-Frank threatens the credibility of the entire financial institutions--to a financial institution against collateral is not equivalent to lending to a dips1ht college student pursuing a liberal arts degree. Education is a valuable thing that should be encouraged, but every time you open your mouth about finance I want to bang my head against the wall at your sheer stupidity--and the same goes for your claim and Bernie's that Glassed-Steagall is some sort of panacea.

The restrictions that were putt on the Fed's 13(3) lending in Dodd-Frank, coupled with Warren's additional demands, were likewise incredibly stupid--and ironically the "5 percentage points above the Treasury rate" standard she set is totally blind to credit spreads: she wants to penalize the banks, but often spreads are even higher than that--i.e., they were perhaps too high for MBS--in which case you're benefitting those same institutions you irrationally abhor.

(3) The whole point of Dodd-Frank and the resulting stress tests, capital requirements, the living-will provision and the Orderly Liquidation Authority is that this will *prevent* another bailout by ensuring that the financial system is sufficiently sound and capable of withstanding future adverse shocks. Of course, Democrats are no champions on this--Barnie Frank himself supported deregulation in the early 2000s, saying he wanted to "roll the dice" when the Bush Administration raised concerns over Fannie and Freedie, and to be fair those were hardly the proximal cause of the financial crisis, though without question played a considerable role in encouraging financial institutions to issue mortgage-backed securities en masse by demonstrating that they were ready and willing to purchase them.

(4) Had the Fed not bailed out these institutions and we went into a 1930s style Depression, who would be most hit? Bill Gates or [insert poor person here]?

Not a hard answer.

Onto interest on reserves:

Interest on reserves was expedited as the federal funds rate was cut aggressively in late 2008. It was initially supposed to go into effect in 2011, but the authority was pushed forward to October 2008. It was an inherently contractionary move, ironically, and arguably should not have been done, but bank welfare it is not.

The initial logic--interest on REQUIRED reserves--was to eliminate the implicit tax associated with financial institutions having to hold reserves. There's absolutely nothing fishy there: they received 25 basis points--and now 50, but we'll discuss later why this is irrelevant.

Then the logic was that, as the federal funds rate hit zero and as the Fed injected excess reserves into the system, which threatened to push it down even further, IOR would set a "floor" for the federal funds rate that would allow the Fed to maintain control over short-term interest rates: the logic was that institutions wouldn't accept an interest rate to lend reserves to one another if they could reserve a higher rate from the Fed. Of course, this was torn apart, and IOR proven a permeable floor, due to the fact that GSE's are able to lend in the funds market, but not access IOR, and balance-sheet constraints--capital, liquidity and leverage requirements--restricting the ability of banks to arbitrage the spread between the FFR and IOR.

The fact that the Fed's balance sheet remains elevated far beyond historical norms--$4.5 trillion relative to $800 billion, with much of its holdings in agency mortgage-backed securities, contrary to the past where its balance sheet consisted solely of Treasuries--means that the supply of reserves and the federal funds rate have been disconnected from one another. Therefore, if the Fed wants to raise rates, it has to use unconventional tools like the interest rate it pays on reserves and its overnight reverse repurchase agreement facility. Making IOR negative, as Bernie wants, might have made sense back in 2009 when the economy was on the brink of disaster and more accommodation was needed--and it's appropriate now in the ECB, Sweden, Switzerland and Denmark, all of whom have negative nominal interest rates, made possible by the costs of holding cash--but in perpetuity a negative IOR would mean a negative nominal federal funds rate. Even Larry Summers, who thinks that neutral real interest rates are going to be, all else equal, zero or negative for an extremely long time, wouldn't support that.

The whole "excess reserve" issue is also important, but I grow tired of typing. McAndrews and Keister from the New York Fed wrote an exceptional paper on this, and use basic accounting to demonstrate that the Fed has no control over the composition of reserves in the system, but only over the total quantity, in which case excess reserves represent the total magnitude of its open-market operations in purchasing long-term Treasuries and mortgage-backed securities. That these funds were converted into required reserves is merely a function of the zero lower bound on nominal interest rates or, more so in this case, the interest rate on reserves.

The biggest reason, though, is weak *demand* for credit, which underscores the fact that interest rates aren't low *because of easy money*: if money were easy, irrespective of headwinds, rates wouldn't rose faster. Low rates mean that money was right, not that it was easy. Ironically, a permanent monetary injection with the promise that it was permanent, or even more QE paired with a credible commitment to doing whatever it takes to restore employment to normal levels, even if that required higher temporary inflation, would have led to a *reduction* in excess reserve volumes, higher rates and eventually a faster wind-down on the balance and of the Fed's policy of reinvestment proceeds from its portfolio holdings.

I think this is more or less a matter of definition (unless there's some technical meaning of "being an arm of" that I don't know about). I mean, technically the CIA is also an "independent agency" yet we would still consider it an "arm of the government". That's a good thing. It means the CIA is accountable to the people, at least in theory. The leadership of the Fed is appointed by the federal government, which gives the federal government at least some control over what decisions the fed makes. Thus, the fed is in some sense an "arm of the government" because it is one of the channels through which the government can exercise its power. If it's going to exist at all, the Fed *should* be an arm of the government - that is, attached and responsive to it, not off doing its own thing.

Misconception #2: The Fed "monetizes the debt."

Whenever the Fed buys treasury bills with dollars it's "monetizing debt" regardless of who the seller is. To monetize means to convert to money. Whenever the Fed buys treasury bills with dollars it effectively takes them out of circulation, leaving money in their place. One of the reasons it does this is to reduce the cost of federal borrowing: by taking IOUs out of circulation, they become more valuable in the marketplace, which means the federal government can set the interest rates lower and still have enough buyers.

d) QE is bank welfare! The Fed bailed out the banks, and now it pays them interest on their reserve balances they hold onto as opposed to loaning out!

The point is this: because everyone knows that banks are likely to get bailed out in times of economic crisis, they have access to cheaper lines of credit and are incentivized to take greater financial risks, because there's no reason to forgo potentially huge profits by being cautious when you might as well "take it to the limit". Thus, their profits are higher than they would otherwise be, because there's an implicit governmental guarantee. It's true that one of the roles of a central bank is to stimulate economic recovery when recession hits, and one of the ways it does this is by bailing out failing companies, but there are ways in which this could actually encourage future economic meltdowns if not done properly.

I think this is more or less a matter of definition (unless there's some technical meaning of "being an arm of" that I don't know about). I mean, technically the CIA is also an "independent agency" yet we would still consider it an "arm of the government". That's a good thing. It means the CIA is accountable to the people, at least in theory. The leadership of the Fed is appointed by the federal government, which gives the federal government at least some control over what decisions the fed makes. Thus, the fed is in some sense an "arm of the government" because it is one of the channels through which the government can exercise its power. If it's going to exist at all, the Fed *should* be an arm of the government - that is, attached and responsive to it, not off doing its own thing.

No, an arm of the government, like, the CIA, would (a) draw funding from Congress, which the Fed does not; (b) have all of its members appointed by the president and approved by the Senate, which the Fed does not (BOG are, regional bank presidents are not); (c) have all of its decisions subject to scrutiny by the federal government--i.e., subject to executive actions or effectively working "for" Obama, as opposed to operating as a coequal agency--which the CIA does, but the Fed's interest-rate decisions are entirely separable.

Government agencies don't have their members appointed by a board of directors at their regional banks--the Fed does--and I could go on.

Misconception #2: The Fed "monetizes the debt."

Whenever the Fed buys treasury bills with dollars it's "monetizing debt" regardless of who the seller is. To monetize means to convert to money. Whenever the Fed buys treasury bills with dollars it effectively takes them out of circulation, leaving money in their place. One of the reasons it does this is to reduce the cost of federal borrowing: by taking IOUs out of circulation, they become more valuable in the marketplace, which means the federal government can set the interest rates lower and still have enough buyers.

Lol, I love how you think you can lecture me on open market operations.

That isn't monetizing the debt. There's a very thorough explanation of what monetizing the debt is in my opening post--and we should be clear that they're hardly holding any Treasury *bills*; those became irrelevant the second they hit the ZLB. Monetizing the debt involves a willful, deliberate coordination between the Treasury/Congress and the Fed whereby the Treasury issues debt and the Fed buys it.

That's not true, though. The Fed cannot legally purchase directly from the Treasury, nor coordinate policy decisions with the Treasury, nor is the intention of policy decisions to reduce federal borrowing rates, which are endogenous, a function of the state of theeconomy.

d) QE is bank welfare! The Fed bailed out the banks, and now it pays them interest on their reserve balances they hold onto as opposed to loaning out!

The point is this: because everyone knows that banks are likely to get bailed out in times of economic crisis, they have access to cheaper lines of credit and are incentivized to take greater financial risks, because there's no reason to forgo potentially huge profits by being cautious when you might as well "take it to the limit".

This is true, and that's why Dodd Frank, by easing banks off the crutch of a federal bailout and directly leaning against this moral hazard, sent a signal--directly, if you actually listened to Ben Bernanke back when this was presented as an issue, and indirectly through requiring these institutions present plans for an orderly dissolution. The Fed actually has the ability to require that these institutions downsize if they can't present a credible plan. That was the entire point of Dodd-Frank.

Economies of scale for large banks also has absolutely nothing to do with QE or IOR being bank welfare, which was the entire crux of this post.

Thus, their profits are higher than they would otherwise be, because there's an implicit governmental guarantee.

There isn't anymore, and people would be mistaken to believe so. But that's not the subject of this post.

What's funny is, the Fed took deliberate action to flatten the Treasury yield curve--through QE and forward guidance, obviously, and it tends to flatten anyway during easing cycles, but they actually purchased $400 billion in long-term securities by selling $400 billion in short-term securities. Banks borrow short and lend long, so when the yield curve flattens, their net interest margin--and thus their profits--fall. The Fed was no friend to the banks, which is why so many of them lobbied for rate hikes. The idea that the Fed is in the pocket of the banks is just wrong. Ironically, their profits would probably be higher--at least in the very near term--with higher interest rates.

It's true that one of the roles of a central bank is to stimulate economic recovery when recession hits, and one of the ways it does this is by bailing out failing companies, but there are ways in which this could actually encourage future economic meltdowns if not done properly.

"Bailing out failing companies" isn't actually in the Fed's toolkit. Before the crisis, 13(3) allowed to establish lending facilities in "unusual and exigent circumstances," and it had the ability to lend to specific companies--AIG for example. Dodd-Frank eliminated that ability--which is stupid, but I digress--and now is only allowing it to establish facilities with "broad-based eligibility," but the whole point is to lend freely against high collateral to ensure a free flow of liquidity in the system.

But I accept the "if not done properly" clause, but that presupposes that there aren't reasonable checks in place to ensure that doesn't happen. As someone who's aware of the enormous stress tests financial institutions were subject to, and even of the pitfalls of the capital requirements they're already subject to, I'm convinced.

No, an arm of the government, like, the CIA, would (a) draw funding from Congress, which the Fed does not; (b) have all of its members appointed by the president and approved by the Senate, which the Fed does not (BOG are, regional bank presidents are not); (c) have all of its decisions subject to scrutiny by the federal government--i.e., subject to executive actions or effectively working "for" Obama, as opposed to operating as a coequal agency--which the CIA does, but the Fed's interest-rate decisions are entirely separable.

Government agencies don't have their members appointed by a board of directors at their regional banks--the Fed does--and I could go on.

The only reason the fed does not draw funding from congress is because it makes enough money on its own to fund its operations. Since the fed funds itself, saying that it's not part of the government because it doesn't receive funding from the government assumes that it's not part of government. You did specifically say funding from congress, but I'm not sure why that's an essential characteristic of a governmental institution.

And I'm not sure why every single member of the Fed has to be approved by the president and the senate before it can qualify as a governmental agency. No agency works like that. Only the top positions are appointed. Since the chairman of the fed is appointed by the president, it's not like the Fed is ultimately a completely independent institution. I mean sure, the Fed can ignore the president's requests but that will just lead to a change in leadership.

Misconception #2: The Fed "monetizes the debt."

Whenever the Fed buys treasury bills with dollars it's "monetizing debt" regardless of who the seller is. To monetize means to convert to money. Whenever the Fed buys treasury bills with dollars it effectively takes them out of circulation, leaving money in their place. One of the reasons it does this is to reduce the cost of federal borrowing: by taking IOUs out of circulation, they become more valuable in the marketplace, which means the federal government can set the interest rates lower and still have enough buyers.

Lol, I love how you think you can lecture me on open market operations.

That isn't monetizing the debt. There's a very thorough explanation of what monetizing the debt is in my opening post--and we should be clear that they're hardly holding any Treasury *bills*; those became irrelevant the second they hit the ZLB. Monetizing the debt involves a willful, deliberate coordination between the Treasury/Congress and the Fed whereby the Treasury issues debt and the Fed buys it.

That's not true, though. The Fed cannot legally purchase directly from the Treasury, nor coordinate policy decisions with the Treasury, nor is the intention of policy decisions to reduce federal borrowing rates, which are endogenous, a function of the state of theeconomy.

Is this just wrong then? Beacuse this is where I'm getting it from:

"Central banks are usually forbidden by law from purchasing debt directly from the government. For example, the Treaty on the Functioning of the European Union (article 123) expressly forbids EU central banks' direct purchase of debt of EU public bodies such as national governments. Their debt purchases have to be from the secondary markets. Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt, holding it until it comes due, and leaving the system with an increased supply of money."https://en.wikipedia.org...

d) QE is bank welfare! The Fed bailed out the banks, and now it pays them interest on their reserve balances they hold onto as opposed to loaning out!

The point is this: because everyone knows that banks are likely to get bailed out in times of economic crisis, they have access to cheaper lines of credit and are incentivized to take greater financial risks, because there's no reason to forgo potentially huge profits by being cautious when you might as well "take it to the limit".

This is true, and that's why Dodd Frank, by easing banks off the crutch of a federal bailout and directly leaning against this moral hazard, sent a signal--directly, if you actually listened to Ben Bernanke back when this was presented as an issue, and indirectly through requiring these institutions present plans for an orderly dissolution. The Fed actually has the ability to require that these institutions downsize if they can't present a credible plan. That was the entire point of Dodd-Frank.

Okay, but in any case, the answer is more complex than just "the government made a profit from bailing out banks" and "it's the central bank's job".

Economies of scale for large banks also has absolutely nothing to do with QE or IOR being bank welfare, which was the entire crux of this post.

Thus, their profits are higher than they would otherwise be, because there's an implicit governmental guarantee.

There isn't anymore, and people would be mistaken to believe so. But that's not the subject of this post.

What's funny is, the Fed took deliberate action to flatten the Treasury yield curve--through QE and forward guidance, obviously, and it tends to flatten anyway during easing cycles, but they actually purchased $400 billion in long-term securities by selling $400 billion in short-term securities. Banks borrow short and lend long, so when the yield curve flattens, their net interest margin--and thus their profits--fall. The Fed was no friend to the banks, which is why so many of them lobbied for rate hikes. The idea that the Fed is in the pocket of the banks is just wrong. Ironically, their profits would probably be higher--at least in the very near term--with higher interest rates.

It's true that one of the roles of a central bank is to stimulate economic recovery when recession hits, and one of the ways it does this is by bailing out failing companies, but there are ways in which this could actually encourage future economic meltdowns if not done properly.

"Bailing out failing companies" isn't actually in the Fed's toolkit. Before the crisis, 13(3) allowed to establish lending facilities in "unusual and exigent circumstances," and it had the ability to lend to specific companies--AIG for example. Dodd-Frank eliminated that ability--which is stupid, but I digress--and now is only allowing it to establish facilities with "broad-based eligibility," but the whole point is to lend freely against high collateral to ensure a free flow of liquidity in the system.

I don't know enough about this, but how is the fed supposed to "be a lender of last resort" without giving businesses the feeling that there is a safety blanket protecting them so long as they appear responsible.

At 1/19/2016 3:51:39 AM, dylancatlow wrote:The only reason the fed does not draw funding from congress is because it makes enough money on its own to fund its operations.

No, it's because it's independent from the Congress. There isn't a case I can think of where the Fed would ever, even if it were suffering major capital losses on its portfolio--imagine that it sold $3 trillion in securities to relink the FFR with reserve supply--draw from the Treasury. It has the ability to essentially loan money to itself: it doesn't need Congress.

I mean, it isn't solely that it earns enough, though it does: in principle, the Fed doesn't require any pecuniary assistance from Congress.

Since the fed funds itself, saying that it's not part of the government because it doesn't receive funding from the government assumes that it's not part of government.

I'm trying to follow this, and I've read it three times. I'm still not seeing the point.

Let me put it in a syllogism:

P1) To be part of the government, an agency must receive government funding.

(I made a lot more points than this, but this is one).

P2) The Fed doesn't receive government funding.C1) The Fed isn't part of the government.

There's no real assumption here.

You did specifically say funding from congress, but I'm not sure why that's an essential characteristic of a governmental institution.

Congress is responsible for appropriating government funds--all spending bills originate in the House. So, yes, saying that it receives no funding from Congress is to say that it receives no government funding.

How about this: 'we the people" are the government, and we fund stuff through tax dollars. The Fed receives zero tax dollars.

And I'm not sure why every single member of the Fed has to be approved by the president and the senate before it can qualify as a governmental agency.

Because if members of an agency are approved by private boards, it's pretty safe to say that's a private institution.

No agency works like that.

They all work like that--I don't know of a single one where private boards are allowed to weigh in. There might be hiring with those agencies, but that doesn't in any way mirror the Fed because while the Board of Governors have to approve the appointment of regional presidents, (a) they don't nominate or conduct any sort of hiring process and (b) it's usually a formality, anyway.

Since the chairman of the fed is appointed by the president, it's not like the Fed is ultimately a completely independent institution.

Sure, it's "instrument independent" and the BOJ is appointed. It's subject to government oversight, but in no meaningful way a government institution.

This is from their website:

"It is considered an independent central bank because its monetary policy decisions do not have to be approved by the President or anyone else in the executive or legislative branches of government, it does not receive funding appropriated by the Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms."

These reasons are probably the most salient--spans multiple terms, (again) doesn't receive funding, policy isn't in any way approved by the president/Congress, nor must they communicate their specific intentions to the president, in public or in private. That's not the case for actual agencies.

(1) Can't purchase from the government, can only purchase on the secondary market.(2) Monetizing the debt involves purchasing debt in a coordinated effort from the Treasury.(3) Therefore, this isn't monetizing the debt.

Okay, but in any case, the answer is more complex than just "the government made a profit from bailing out banks" and "it's the central bank's job".

Yes, which is why my answer is a lot longer than that, lol. I'd suggest you read it.

I don't know enough about this, but how is the fed supposed to "be a lender of last resort" without giving businesses the feeling that there is a safety blanket protecting them so long as they appear responsible.

Well, first, it's not a safety blanket to "businesses"--they're lending to depository institutions, not to the McDonald's down the street. Second, the stigma attached to these loans themselves discourages participation. Third, because of requirements that financial institutions maintain a certain amount of capital, there are considerable opportunity costs associating with participating in these programs--and institutions participating would likely be subject to even higher requirements.

But in some sense it is a safety blanket. Within reasonable limits, I don't see a problem with that.

I mean, it isn't solely that it earns enough, though it does: in principle, the Fed doesn't require any pecuniary assistance from Congress.

Since the fed funds itself, saying that it's not part of the government because it doesn't receive funding from the government assumes that it's not part of government.

I'm trying to follow this, and I've read it three times. I'm still not seeing the point.

Let me put it in a syllogism:

P1) To be part of the government, an agency must receive government funding.

(I made a lot more points than this, but this is one).

P2) The Fed doesn't receive government funding.C1) The Fed isn't part of the government.

There's no real assumption here.

You're saying that the Fed doesn't receive money from government, and thus is not a governmental institution. However, since it receives money from its own operations, this amounts to the assertion that "the fed is not a governmental institution because it is not a governmental institution".

You did specifically say funding from congress, but I'm not sure why that's an essential characteristic of a governmental institution.

Congress is responsible for appropriating government funds--all spending bills originate in the House. So, yes, saying that it receives no funding from Congress is to say that it receives no government funding.

That's not necessarily true. Federal spending is not the only kind of government spending. There's state and local spending too.

How about this: 'we the people" are the government, and we fund stuff through tax dollars. The Fed receives zero tax dollars.

And I'm not sure why every single member of the Fed has to be approved by the president and the senate before it can qualify as a governmental agency.

Because if members of an agency are approved by private boards, it's pretty safe to say that's a private institution.

No agency works like that.

They all work like that--I don't know of a single one where private boards are allowed to weigh in. There might be hiring with those agencies, but that doesn't in any way mirror the Fed because while the Board of Governors have to approve the appointment of regional presidents, (a) they don't nominate or conduct any sort of hiring process and (b) it's usually a formality, anyway.

I meant that no governmental agency as large as the fed has every single employee individually appointed by the President or some equivalent.

Since the chairman of the fed is appointed by the president, it's not like the Fed is ultimately a completely independent institution.

Sure, it's "instrument independent" and the BOJ is appointed. It's subject to government oversight, but in no meaningful way a government institution.

This is from their website:

"It is considered an independent central bank because its monetary policy decisions do not have to be approved by the President or anyone else in the executive or legislative branches of government, it does not receive funding appropriated by the Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms."

These reasons are probably the most salient--spans multiple terms, (again) doesn't receive funding, policy isn't in any way approved by the president/Congress, nor must they communicate their specific intentions to the president, in public or in private. That's not the case for actual agencies.

It's pretty independent, but I still think it qualifies as a governmental institution. In fact, they refer to themselves as such on their own website:

"The Federal Reserve, like many other central banks, is an independent government agency but also one that is ultimately accountable to the public and the Congress. The Congress established maximum employment and stable prices as the key macroeconomic objectives for the Federal Reserve in its conduct of monetary policy. The Congress also structured the Federal Reserve to ensure that its monetary policy decisions focus on achieving these long-run goals and do not become subject to political pressures that could lead to undesirable outcomes. So, members of the Board of Governors are appointed for staggered 14-year terms and the Chairman of the Board is appointed for a four-year term. Elected officials and members of the Administration are not allowed to serve on the Board.

The Federal Reserve does not receive funding through the congressional budgetary process. The Fed's income comes primarily from the interest on government securities that it has acquired through open market operations. Other sources of income are the interest on foreign currency investments held by the Federal Reserve System; fees received for services provided to depository institutions, such as check clearing, funds transfers, and automated clearinghouse operations; and interest on loans to depository institutions. After paying its expenses, the Federal Reserve turns the rest of its earnings over to the U.S. Treasury."

(1) Can't purchase from the government, can only purchase on the secondary market.(2) Monetizing the debt involves purchasing debt in a coordinated effort from the Treasury.(3) Therefore, this isn't monetizing the debt.

No it's not. " Their debt purchases have to be from the secondary markets. Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt, holding it until it comes due, and leaving the system with an increased supply of money."

This implies that when the treasury sells bonds to non-fed buyers, and the fed buys those with dollars, debt monetization has taken place. No where in the article does it say that the fed must purchase directly from the treasury in order for it to be called debt monetization.

Okay, but in any case, the answer is more complex than just "the government made a profit from bailing out banks" and "it's the central bank's job".

Yes, which is why my answer is a lot longer than that, lol. I'd suggest you read it.

LOL, oops. For some reason I thought those were separate questions and I just kind of skimmed over them. Sorry

At 1/19/2016 4:48:23 AM, dylancatlow wrote:You're saying that the Fed doesn't receive money from government, and thus is not a governmental institution.

Yes.

However, since it receives money from its own operations, this amounts to the assertion that "the fed is not a governmental institution because it is not a governmental institution".

No, it doesn't, and I explained why above--receiving money from government *has to go through Congress* because all government appropriations originate in the House of Representatives and are funded by tax dollars. Neither of those are the case with the Fed. No other government agency can "create" money, either--except of course the Treasury, but it doesn't use that to fund itself (I suppose it could, to be perfectly honest).

You did specifically say funding from congress, but I'm not sure why that's an essential characteristic of a governmental institution.

Because Article 1 Section 8 says that all spending bills originate in the House. If the Fed were a government agency, that's how it would be funded--just like all other agencies. It isn't. It funds itself.

That's not necessarily true. Federal spending is not the only kind of government spending. There's state and local spending too.

This is just meaningless nitpicking--the Fed in no way, shape or form could be part of a state or local government--but let me revise my above statement to appease you: all *federal* appropriations must originate in the House.

How about this: 'we the people" are the government, and we fund stuff through tax dollars. The Fed receives zero tax dollars.

And I'm not sure why every single member of the Fed has to be approved by the president and the senate before it can qualify as a governmental agency.

It's not even that; it's that leaders of other government agencies aren't a function of private boards.

I meant that no governmental agency as large as the fed has every single employee individually appointed by the President or some equivalent.

Well, first, that's a meaningless comparison, because there really isn't an agency on par with the Fed in terms of size.

That also depends on how you define "equivalent." Sure, there's internal hiring *within that organization* for a person who will join the public dole, both of which aren't true for the Fed.

Forgive me if I'm repeating myself, but I don't really know how else to explain this, lol. It's not an arm of the government, and that's for good reason.

Since the chairman of the fed is appointed by the president, it's not like the Fed is ultimately a completely independent institution.

Sure, it's "instrument independent" and the BOJ is appointed. It's subject to government oversight, but in no meaningful way a government institution.

This is from their website:

"It is considered an independent central bank because its monetary policy decisions do not have to be approved by the President or anyone else in the executive or legislative branches of government, it does not receive funding appropriated by the Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms."

These reasons are probably the most salient--spans multiple terms, (again) doesn't receive funding, policy isn't in any way approved by the president/Congress, nor must they communicate their specific intentions to the president, in public or in private. That's not the case for actual agencies.

It's pretty independent, but I still think it qualifies as a governmental institution. In fact, they refer to themselves as such on their own website:

"The Federal Reserve, like many other central banks, is an independent government agency but also one that is ultimately accountable to the public and the Congress. The Congress established maximum employment and stable prices as the key macroeconomic objectives for the Federal Reserve in its conduct of monetary policy. The Congress also structured the Federal Reserve to ensure that its monetary policy decisions focus on achieving these long-run goals and do not become subject to political pressures that could lead to undesirable outcomes. So, members of the Board of Governors are appointed for staggered 14-year terms and the Chairman of the Board is appointed for a four-year term. Elected officials and members of the Administration are not allowed to serve on the Board.

All that says is that they're accountable to Congress, which created them. I didn't deny that: they're goal dependent and instrument independent, which is why I used the term "quasi agency."

The Federal Reserve does not receive funding through the congressional budgetary process. The Fed's income comes primarily from the interest on government securities that it has acquired through open market operations. Other sources of income are the interest on foreign currency investments held by the Federal Reserve System; fees received for services provided to depository institutions, such as check clearing, funds transfers, and automated clearinghouse operations; and interest on loans to depository institutions. After paying its expenses, the Federal Reserve turns the rest of its earnings over to the U.S. Treasury."

(1) Can't purchase from the government, can only purchase on the secondary market.(2) Monetizing the debt involves purchasing debt in a coordinated effort from the Treasury.(3) Therefore, this isn't monetizing the debt.

No it's not. " Their debt purchases have to be from the secondary markets. Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt, holding it until it comes due, and leaving the system with an increased supply of money."

This implies that when the treasury sells bonds to non-fed buyers, and the fed buys those with dollars, debt monetization has taken place. No where in the article does it say that the fed must purchase directly from the treasury in order for it to be called debt monetization.

That's not how I read it, and I think you're completely misinterpreting that line and taking it far too literally--especially when, if I followed your logic of a "two step process," NONE of which includes a private buyer, that would be sufficient to discard QE as debt monetization.

Monetizing the debt requires coordination--it requires *intention* to purchase bonds to finance government borrowing. That's not the case with the Fed.

This implies that when the treasury sells bonds to non-fed buyers, and the fed buys those with dollars, debt monetization has taken place. No where in the article does it say that the fed must purchase directly from the treasury in order for it to be called debt monetization.

That's not how I read it, and I think you're completely misinterpreting that line and taking it far too literally--

Literally everywhere I look, that's exactly the way in which it is used. Another example: "Debt monetization describes the process of turning U.S. Treasury debt and private corporate debt into money. Simply stated, this happens when the Fed buys Treasury and corporate debt on the open market."

especially when, if I followed your logic of a "two step process," NONE of which includes a private buyer, that would be sufficient to discard QE as debt monetization.

There's a difference between saying "this two step process counts as debt monetization" which is what the article claimed, and saying "debt monetization requires a two step process". You're saying that if the fed does not purchase bonds directly from the treasury, it's not engaging in debt monetization. However, everything I've read indicates that debt monetization occurs whenever the fed buys treasury bonds, whether directly from the treasury or on a secondary market.

Monetizing the debt requires coordination--it requires *intention* to purchase bonds to finance government borrowing. That's not the case with the Fed.

And why is that? The fed doesn't need to tap the treasury on the shoulder before they start issuing debt. They do it constantly anyway. Your reasons not to worry about the fed financing federal debt make very little sense. The fed doesn't even need to have contact with the treasury in order to finance its debt - that is, allow it to borrow more cheaply. All it has to do is buy up treasury bonds on the open market, something which it does regularly. Its being independent merely implies that it doesn't have to do this, not that it isn't doing this.

At 1/19/2016 6:06:48 AM, dylancatlow wrote:Literally everywhere I look, that's exactly the way in which it is used.

I don't know where you're looking, but it's just not true. There's actually a term for what you're describing: it's called 'fiscal dominance,' and it's a cautionary tale. Rick Mishkin described that as a scenario we want to *avoid.* This is someone who was on the Fed at the time they were doing--or at least initiated--QE.

Another example: "Debt monetization describes the process of turning U.S. Treasury debt and private corporate debt into money. Simply stated, this happens when the Fed buys Treasury and corporate debt on the open market."

That's just wrong, and whoever wrote that doesn't understand what the term "open market" actually means.

especially when, if I followed your logic of a "two step process," NONE of which includes a private buyer, that would be sufficient to discard QE as debt monetization.

There's a difference between saying "this two step process counts as debt monetization" which is what the article claimed, and saying "debt monetization requires a two step process".

Yes, there is a difference. Let me quote your article back to you:

"Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt, holding it until it comes due, and leaving the system with an increased supply of money."

I don't understand how that could be any clearer--monetizing the debt is supposedly a two-step process whereby the Fed buys Treasury debt from Congress. In reality, it's legally forbidden from doing so. By your own logic, once again, this is what monetizing the debt IS, rather than a subset within--i.e., what could count as monetizing the debt.

The semantics really tire me, but I don't really know how many ways I can say the same thing. I really feel like you're grasping at straws here.

You're saying that if the fed does not purchase bonds directly from the treasury, it's not engaging in debt monetization.

Yes.

However, everything I've read indicates that debt monetization occurs whenever the fed buys treasury bonds, whether directly from the treasury or on a secondary market.

Then your sources aren't very good, lol. I don't know what else to tell you.

Although this isn't exactly true, because you linked two articles, only one of which said this. The Wikipedia article said no such thing, as I've pointed out countless times.

"However, what is usually meant by "monetizing the debt," Andolfatto and Li write, is the use of money creation as a permanent source of financing for government spending. Therefore, whether the Fed is truly monetizing government debt depends on what the Fed intends to do with its portfolio in the long run."

Monetizing the debt requires coordination--it requires *intention* to purchase bonds to finance government borrowing. That's not the case with the Fed.

And why is that? The fed doesn't need to tap the treasury on the shoulder before they start issuing debt. They do it constantly anyway.

They're issuing debt because Congress appropriated those funds, but the Fed had absolutely nothing to do the decision to run deficits, and doesn't weigh in on fiscal policy. There was absolutely no concerted effort.

Your reasons not to worry about the fed financing federal debt make very little sense.

Well, they do to everyone else, lol.

The fed doesn't even need to have contact with the treasury in order to finance its debt - that is, allow it to borrow more cheaply.

The Fed doesn't "allow" anyone to borrow more cheaply. This is the point I stressed at length in my posts. Interest rates are endogenous: they're a function of the state of the economy. Rates rise and fall with the state of the economy--the Fed just nudges them in that direction, but doesn't control or "set" interest rates.

All it has to do is buy up treasury bonds on the open market, something which it does regularly. Its being independent merely implies that it doesn't have to do this, not that it isn't doing this.

Again, this isn't true, but the reasons it isn't true have been repeated ad nauseum at this point.

"Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt, holding it until it comes due, and leaving the system with an increased supply of money."

I don't understand how that could be any clearer--monetizing the debt is supposedly a two-step process whereby the Fed buys Treasury debt from Congress. In reality, it's legally forbidden from doing so. By your own logic, once again, this is what monetizing the debt IS, rather than a subset within--i.e., what could count as monetizing the debt.

That's not how the article is using "two step process". It's saying that since the Fed cannot purchase debt directly from the treasury, it has to do it on the secondary market. If the Fed purchased debt directly from congress that would be one step. Instead, first the treasury has to issue debt, then the Fed has to purchase them on the open market.

"Central banks are usually forbidden by law from purchasing debt directly from the government...Their debt purchases have to be from the secondary markets. Monetizing debt is thus a two-step process where the government issues debt to finance its spending and the central bank purchases the debt"

You're saying that if the fed does not purchase bonds directly from the treasury, it's not engaging in debt monetization.

Yes.

However, everything I've read indicates that debt monetization occurs whenever the fed buys treasury bonds, whether directly from the treasury or on a secondary market.

Then your sources aren't very good, lol. I don't know what else to tell you.

Although this isn't exactly true, because you linked two articles, only one of which said this. The Wikipedia article said no such thing, as I've pointed out countless times.

"However, what is usually meant by "monetizing the debt," Andolfatto and Li write, is the use of money creation as a permanent source of financing for government spending. Therefore, whether the Fed is truly monetizing government debt depends on what the Fed intends to do with its portfolio in the long run."

In any case, I grant you that those who accuse the fed of monetizing the debt would assume it's it on purpose. Unintentional debt monetization is not a great concern, so I accept that definition. However, you haven't actually shown that this isn't something they're looking to do. If I were a Ron Paul supporter, I would not be convinced by your arguments.

The fed doesn't even need to have contact with the treasury in order to finance its debt - that is, allow it to borrow more cheaply.

The Fed doesn't "allow" anyone to borrow more cheaply. This is the point I stressed at length in my posts. Interest rates are endogenous: they're a function of the state of the economy. Rates rise and fall with the state of the economy--the Fed just nudges them in that direction, but doesn't control or "set" interest rates.

Notice how I said "more cheaply". I didn't say it could set the rates at whatever level they want.

All it has to do is buy up treasury bonds on the open market, something which it does regularly. Its being independent merely implies that it doesn't have to do this, not that it isn't doing this.

Again, this isn't true, but the reasons it isn't true have been repeated ad nauseum at this point.

I'm making three distinct claims here. Which ones are you disagreeing with?

1. The fed could, in theory, allow the government to borrow more cheaply by buying up bonds on the open market.2. The fed regularly buys treasury bonds on the open market.3. Its being independent doesn't necessarily mean it's not buying up treasury bonds with the intention of lowering the cost of federal borrowing.

At 1/19/2016 7:53:05 PM, dylancatlow wrote:That's not how the article is using "two step process". It's saying that since the Fed cannot purchase debt directly from the treasury, it has to do it on the secondary market. If the Fed purchased debt directly from congress that would be one step. Instead, first the treasury has to issue debt, then the Fed has to purchase them on the open market.

No, the two steps are the Treasury issuing debt and the Fed purchasing it. It leaves out the third step--a private buyer purchasing debt.

In any case, I grant you that those who accuse the fed of monetizing the debt would assume it's it on purpose.

This is true.

Unintentional debt monetization is not a great concern, so I accept that definition. However, you haven't actually shown that this isn't something they're looking to do. If I were a Ron Paul supporter, I would not be convinced by your arguments.

Because I don't know how exactly I could prove that isn't the case. If that were the intention, we would tend to see some coordination--or higher deficits as a percent of the economy consistent with a falling equilibrium interest rate. We haven't seen that: in fact, fiscal policy has been quite contractionary over the past several years.

But, again, that's not something I can really prove because it's not my responsibility to prove a negative. Talking to Ron Paul supporters is the intellectual equivalent of banging my head against the wall.

Notice how I said "more cheaply". I didn't say it could set the rates at whatever level they want.

But that's also not true. That implies that the Fed in any meaningful way impacts borrowing rates. They don't--interest rates are endogenous. You can look at the behavior of long-term rates if you don't believe me: people thought those would soar after liftoff, and in fact they've fallen.

I'm making three distinct claims here. Which ones are you disagreeing with?

1. The fed could, in theory, allow the government to borrow more cheaply by buying up bonds on the open market.

I am disagreeing with this, because it's overly simplistic. The mechanism for reducing *short term rates* is realistically the Fed buying bonds, but that isn't the case for long-term rates--and this isn't an act of discretion since they're following an endogenous equilibrium rate.

2. The fed regularly buys treasury bonds on the open market.

Hardly "regularly," at least not anymore. During so-called conventional times, it conducted reverse repo operations to smooth over seasonable operations and relatively small operations of short-term Treasury debt to nudge short rates around, which it now can't do. QE, or purchases of long-term bonds, are over, and all it's doing at the moment is reinvesting principal payments.

3. Its being independent doesn't necessarily mean it's not buying up treasury bonds with the intention of lowering the cost of federal borrowing.

It absolutely does, because again the Fed doesn't set borrowing rates: they're a function of the state of the economy. The "intention" component of this is likewise totally wrong, but again it's the burden of PaulBots to prove otherwise, not mine to disprove their asinine conspiracy theory.

you may change your mind about Bernanke....he was one of the architects of sub-prime loans.

The points made about the Fed NOT being a government agency are correct, it's an arm of the banking industry under the concept of being a professional body for the purpose of bank regulation, such as all other professionals like doctors and lawyers, all subscribe to their respective professional bodies (and part of the definition of a professional, is that they subscribe to an "independent autonomous governing body", which again by definition means, that it has nothing to do with government). There's no such thing as a government agency that is not part of the government, and therefore directly linked via funding and reporting, regardless of being "profitable" or not. The Fed is neither funded by, nor reports to, the government, but makes recommendations for policy.

At 2/3/2016 1:18:28 PM, PointBlunt wrote:Watch this documentary on the GFC and Sub-Prime Loan fiasco....https://www.youtube.com...

you may change your mind about Bernanke....he was one of the architects of sub-prime loans.

I've seen parts of it, but generally it doesn't interest me and seems like nothing short of a hit piece (I could be wrong) which wrongly points the finger at the Fed as "in bed with monied interest." The same could be said of the disgusting interview with Rick Mishkin, which perhaps got the most press (though I'm not going to defend Glenn Hubbard).

I also struggle to think of a mechanism in which Bernanke was an architect of subprime as opposed to the guy who cleaned up after everyone else's mess--and it didn't exactly help that the dipsh1ts in Congress were remarkably incompetent, and his colleagues on the Fed unwilling to act more decisively than they did.

The points made about the Fed NOT being a government agency are correct, it's an arm of the banking industry under the concept of being a professional body for the purpose of bank regulation, such as all other professionals like doctors and lawyers, all subscribe to their respective professional bodies (and part of the definition of a professional, is that they subscribe to an "independent autonomous governing body", which again by definition means, that it has nothing to do with government).

This sounds about right, yeah. I'd struggle with calling it an "arm of the banking industry" since obviously it's not a profit-seeking institution, it's under the direct supervision of Congress, and it remits all of its operating profits to the Treasury. I feel as though "quasi agency" captures the dynamic sufficiently.

There's no such thing as a government agency that is not part of the government, and therefore directly linked via funding and reporting, regardless of being "profitable" or not. The Fed is neither funded by, nor reports to, the government, but makes recommendations for policy.

It does report to the government through testimonies, audits by the GAO, etc. It also doesn't make recommendations for fiscal policy--and you'll regularly see Janet hedge when asked about things like the MW. Bernanke was a bit more open, as was (I believe) Greenspan.